Author: Wang Xueheng

Source: Xueheng's Overseas Observations

Report summary

01

Revenue fell short of expectations, and advertising growth continued to decline

Revenue for the third quarter increased 21% year on year to 97.2 billion yuan, lower than market expectations. This year, the advertising business fell slightly short of expectations from the first quarter, and the decline accelerated in the third quarter. This reflects: 1. Competition from headlines; 2. The current situation where China's macroeconomic economy is under pressure. The growth rate of advertising revenue in the third quarter was only 13%, a new low level since the company went public. Among them, social advertising increased by 32%, and media advertising decreased by 28% year over year. According to our macroeconomic judgment, it is expected that the advertising growth rate in Q4 will be at a low point in the growth rate.

02

Games are resilient, and overseas games are expected to become new growth points

The gaming business maintained steady growth, with mobile games growing 25% year over year and online games growing 11% year over year. Mainly, Wang Zhe Rongyao's basic market is stable. “Peace Elite” has also received significant revenue. Deferred revenue has increased markedly compared to Q2. Since the third quarter, overseas games have grown rapidly. The number of monthly active accounts for “PUBG MOBILE” has doubled over the same period last year, and “Call of Duty Mobile” has been downloaded more than 100 million times.

03

Payment and cloud businesses maintain relatively rapid growth

Payments and Cloud maintained relatively rapid growth in the third quarter, with a growth rate of 36%. Meanwhile, cloud revenue increased 80% year over year to 4.7 billion yuan. We have seen that as competition in the payment business slows down this year, Tencent Alipay's rebate discounts for merchants have been reduced, and at the same time, the company is actively developing value-added business, leading to a steady increase in the gross margin of the payment business, which will lay the foundation for an increase in the scale of payment business profits in the years to come.

04

Investment advice

We slightly lowered the revenue growth rate in 2019-2020 to 22% (0pct) and 20% (-1pct), and the net profit growth rate to 23% and 17% (flat). The advertising business is expected to bottom out at about Q4. The EPS for 2019 and 2020 is HK$11.1 and $13.7. Considering RMB appreciation, and the economy bottoms out, and advertising will pick up. We maintain the increase in holdings and maintain the target valuation range of HK$380 to HK$400. The current stock price corresponding to the 2019-2020 PE is 27X, 23X.

05

Risk warning

Macroeconomic uncertainty has had an adverse impact on the advertising business, and game growth has fallen short of expectations.

Report text

1. Revenue fell short of expectations, games maintained good resilience, and the advertising business declined

Revenue for the third quarter increased 21% to 97.2 billion yuan, lower than market expectations.The advertising business fell slightly short of expectations from the first quarter, and the decline accelerated in the third quarter.This generally reflects 1. Competition from headlines;2. The current situation where China's macroeconomic economy is under pressure.The growth rate of advertising revenue in the third quarter was only 13%, a new low level since the company went public.Among them, social advertising increased by 32%, and media advertising decreased by 28% year over year.According to our macroeconomic judgment, it is expected that the advertising growth rate in Q4 may become a low point in the growth rate.

The gaming business maintained steady growth, with mobile games growing 25% year over year and online games growing 11% year over year.Mainly, Wang Zhe Rongyao's basic market is stable. “Peace Elite” has also received significant revenue. Deferred revenue has increased markedly compared to Q2. Since Q3, overseas games have grown rapidly. The number of monthly active accounts for “PUBG MOBILE” has doubled over the same period last year, and “Call of Duty Mobile” has been downloaded more than 100 million times.

Payments and Cloud maintained a relatively rapid growth rate of 36% in the third quarter. Meanwhile, cloud revenue increased 80% year over year to 4.7 billion yuan. Thankfully, the gross margin of the payment business has steadily increased, laying the foundation for an increase in the scale of payment business profits in the next year.

Judging from the gross profit level, the gross margin of value-added business in the third quarter was basically the same, at 51.8%;However, the advertising business continued to maintain a high gross margin of 48.8% due to reduced advertising expenses;The gross profit margin of the payment and cloud business was 25.8%, an increase of 1 percentage point.

The sales expense ratio and management expense ratio remained stable.

Judging from the growth rate of the ARPU value of value-added services (equivalent to the CPI of games), on the basis of the correction in the previous quarter, there was a slight year-on-year decline in this quarter, but it remained around 4%.We have always mentioned that this indicator is a basic observation indicator for Tencent's gaming and value-added business. When Q3-Q4 was at the bottom of last year, the stock price also declined significantly, but it began to rebound rapidly in the first quarter of this year, and the stock price also rose significantly.

The number of video subscribers increased 22% year on year, and the number of users exceeded 100 million for the first time;The number of Tencent Music users increased 42% year over year to 35.4 million.

II. Investment advice and risk tips

Investment advice

We slightly lowered the revenue growth rate in 2019-2020 to 22% (0pct) and 20% (-1pct), and the net profit growth rate to 23% and 17% (flat). The advertising business is expected to bottom out at about Q4. The EPS for 2019 and 2020 is HK$11.1 and $13.7. Considering RMB appreciation, and the economy bottoms out, and advertising will pick up. We maintain the increase in holdings and maintain the target valuation range of HK$380 to HK$400. The current stock price corresponding to the 2019-2020 PE is 27X, 23X.

Risk warning

Macroeconomic uncertainty has had an adverse impact on the advertising business, and game growth has fallen short of expectations.